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Fiscal Policy and the Labour Market: The Effects of Public Sector Employment and Wages

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Author Info

  • Gomes, Pedro Maia

    ()
    (Universidad Carlos III de Madrid)

Abstract

I build a dynamic stochastic general equilibrium model with search and matching frictions and two sectors in order to study the labour market effects of public sector employment and wages. Public sector wages plays an important role in achieving the efficient allocation. High wages induce too many unemployed to queue for public sector jobs, while if they are low, the government faces recruitment problems. The optimal steady-state wage premium depends mainly on the labour market friction parameters. In response to technology shocks, it is optimal to have procyclical public sector wages. Deviations from the optimal policy can increase the volatility of unemployment significantly. Public sector wage and employment shocks have mixed effects on unemployment. A wage shock raises the unemployment rate, while a reduction in the separations lowers it. Hiring more people can increase or decrease the unemployment rate. All shocks raise the wage and crowd out employment in the private sector. In the empirical part, I employ Bayesian methods to estimate the parameters of the model for the United States. I find that the direct search mechanism between the two sectors is an important element to explain business cycle fluctuations of the labour market variables.

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Bibliographic Info

Paper provided by Institute for the Study of Labor (IZA) in its series IZA Discussion Papers with number 5321.

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Length: 61 pages
Date of creation: Nov 2010
Date of revision:
Handle: RePEc:iza:izadps:dp5321

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Keywords: public sector employment; public sector wages; unemployment; fiscal shocks;

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  1. Fabien Postel-Vinay & Hélène Turon, 2005. "The Public Pay Gap in Britain: Small Differences That (Don't?) Matter," The Centre for Market and Public Organisation 05/121, Department of Economics, University of Bristol, UK.
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  1. Fiscal Policy and the Labour Market: The Effects of Public Sector Employment and Wages
    by Christian Zimmermann in NEP-DGE blog on 2010-12-30 14:35:19
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